Groupon: Sterne Agee Ups to Buy on Move Beyond Email

By Tiernan Ray

Shares of Groupon (GRPN) are higher by 30 cents, or almost 6%, at $5.59, after Sterne Agee’s Arvind Bhatia this morning raised his rating on the shares to Buy from Neutral, with a $9 price target, writing that he’s not offering a view into the Q4 results, due February 27th, after market close, but rather “an out-of- consensus upgrade predicated on a more constructive longer-term view of the company.”

The centerpiece for Bhatia is Groupon’s testing a local “deals” marketplace that may draw in users surfing the Web for discounts rather than constantly sending emails:

GRPN is evolving beyond the email in-box business. Groupon is in the midst of evolving beyond its traditional push email business. A few months ago, it began testing a local e-commerce marketplace consisting of thousands of active deals in the Chicago and New York markets. We expect this test to be rolled out in many additional cities and eventually nationally in the coming quarters. We believe this marketplace has the potential to become an important growth driver for GRPN. Customers are pulled to the marketplace through search engine marketing (Google, Bing, etc.) as opposed to sending emails. Currently, less than 5% of GRPN’s revenue comes from search engine marketing. In contrast, an estimated 25% of queries on search engines are local and nearly 50% of mobile searches are for local, which suggests meaningful untapped opportunity for GRPN. GRPN has increased the number of active deals in the U.S. by a factor of 13x in the last 12 months to an estimated 27,000 active deals. Having this deep inventory will be the key to driving growth in this on-demand marketplace.

Bhatia also thinks the competitive situation is relatively favorable given that, although it competes with Amazon.com (AMZN) and Google (GOOG) in some senses, the real main competitor, LivingSocial, is not having an easy time of it:

Competition is Easing. While there are many smaller competitors, in our opinion, the only real competitor to GRPN over the last 12 months has been LivingSocial. LivingSocial’s recent results show the company is struggling to make money. We think the issue is that LivingSocial lacks scale. There have been media reports of meaningful layoffs at the company. The struggles at LivingSocial despite support from investors such as Amazon underscore that reaching scale in this business is difficult, even if getting started in the business is relatively easy. As such, we believe GRPN’s scale will remain a key advantage. We note GRPN is profitable and generates free cash flow.

Bhatia likes the stock valuation of 0.8 times as a multiple of enterprise value relative to projected 2014 sales. He’s modeling revenue this year of $2.9 billion, and EPS of 17 cents, excluding some costs versus the consensus view for $2.75 billion and 24 cents.

About Tech Trader Daily

Tech Trader Daily is a blog on technology investing written by Barron’s veteran Tiernan Ray. The blog provides news, analysis and original reporting on events important to investors in software, hardware, the Internet, telecommunications and related fields. Comments and tips can be sent to: techtraderdaily@barrons.com.